The finance classroom meets the outside world (and vice-versa). Back away slowly from the computer with your hands up and your mind open, and with luck nobody gets hurt.

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Sunday, June 19, 2005

Miss a Day (or 10) and You Miss a Lot

Many people believe that you can "Time" the market. I believe that markets are efficient (i.e. that prices already reflect all available information, and that you can't beat the market). So, I don't think market timing makes a lot of sense (particularly timing based on relatively simple rules).

But, what if you "time" the market wrong? What if you miss only a few of the "good" market days? Nejat Seyhun of the University of Michigan recently looked at this issue, and found that the over the period from 1963 to 1993, a capitalization-weighted market index earned 11.83% annually. However, miss only the 10 highest-return days in that period, and the average annual return drops to 10.17%; miss the 40 best days (an average of a little more than one day per year) and the average return drops to a little more than 7% annually.

So, a relatively few high-return days provide a disproportionately large portion of the market's overall return. There's lots of other good stuff in Seyhun's study, and it's quite readable.